What is product/market fit and how do you measure it?

Do I have product/market fit? If you’re wondering that, you usually haven’t achieved it yet. In fact, you quickly realise when you have product/market fit. Many entrepreneurs recognise it immediately, because it’s like a “flywheel” starting to turn.

This is an indicator that you have product/market fit:

Customers buy your product faster than the operation can handle while you do little to no acquisition

This is an indicator that you don’t have product/market fit:

Customers do not experience enough value from your product, making customer acquisition and retention difficult

There are also many entrepreneurs who claim to have achieved product/market fit. But this is usually not the case. This is because the wrong metrics are used to measure product/market fit, such as the amount of revenue or funding raised. But when a startup has raised, say, €10 million or has €1 million in revenue, this says nothing about the product’s commercial viability and scalability.

Some startups use NPS to measure product/market fit. You also regularly see the Sean Ellis test recurring. But unfortunately, this says too little. Of course, it does mean something about the product if your customer says he recommends your product, but you actually want fans which increases customer value and reduces acquisition costs to scale up faster. These metrics don’t directly contribute to that.

Product/market fit to grow exponentially

A product/market fit helps you determine what stage your business is in. Startups searching for a working business model use product/market fit as a prerequisite to scale up. But only if you measure product/market fit well will you succeed in scalable growth and achieve the famous hockey stick curve. To achieve exponential growth, we must first agree on the definition of product/market fit.

What is product/market fit?

The meaning is quite simple. If your startup has product/market fit, then customers are pulling your product out of your hands, while you do little to no sales. The latter is important, because if you push a product with sales efforts, it may lead to more customers, but that doesn’t mean the product is a seamless fit with market desires. 

How do you measure whether you have achieved product/market fit?

I learned at work that there are three metrics to determine product/market fit. These are:

  • Usage. The average use of a product or service in a given period by customers
  • Retention. The number of customers who make a repeat purchase
  • Reference growth. The number of customers acquired through word-of-mouth advertising

As a startup, you need to be able to tick off at least two of the three metrics to achieve product/market fit. For most startups, usage and retention are the most important. But retention cannot be measured when there is no chance of repeat purchases. For example, a large one-off investment of a machine that will last 10 years. In that case, a startup may choose to measure reference growth as an alternative.

As mentioned earlier, startups often use interest, publicity, turnover, number of employees or a large investment round to determine whether they have achieved product/market fit. On the face of it, logical metrics, but actually irrelevant. I always look at customer behaviour by looking for an ever-growing loyal customer group that uses the product intensively, makes repeat purchases and/or talks positively about your product in their network (which makes new customers join via word of mouth).

When have you achieved product/market fit? 

Although percentages vary by industry and company to determine product/market fit, 80% is very common. On average, I use 80% usage, retention and/or reference growth within a small segment of the market. And by small segment I mean, for example, 0.5% of the total addressable market (TAM).

Imagine the market consists of 1 million unique customers, then you often see that validation may already be needed from 500 customers to determine product/market fit. That means that in this case, 400 of the 500 customers make repeat purchases and use the product intensively. Only when you get close to this kind of ratio can you actually talk about a product/market fit. But note: it is not a hard science. It will always depend on the sector, the type of business (B2B/B2C) and the market size.

What if you don’t hit the 80 percent mark?

Achieving product/market fit takes longer than most entrepreneurs expect. In fact, most startups never even reach this milestone. 

Fortunately, there is a solution. Focus as much as possible on customer development in the early stages of a startup. Try to find a small customer group of which 80% experience the same problem, have the same buying motive and want to pay for your solution. Fully focus on the first customer group in Everett Rogers’ adoption curve (the “innovators”, or “earlyvangelists”).

This is because earlyvangelists have an acute problem and are willing to pay a premium price for a product with a minimal set of functionalities. You can find this customer group by writing down your assumptions and conducting interviews to validate the target audience and the problem. It is then up to you to create the solution where 80% are willing to pay for it. After the product is bought, you can start measuring usage, retention and/or reference growth.

Do you then approach 80% with these metrics? Congratulations! You’re further ahead than most startups. You can then start optimising your sales efforts. Still haven’t made it? Don’t grieve and make a pivot, or adjustment in your business model, until you have product/market fit. Best of luck!

Sources used:
This article is based on what I learned as a Product Developer at Gritd, a company that has mentored more than 500 Dutch startups and analysed more than 1,000 Dutch startups. As a result, we know what a startup needs to grow healthily.

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Floris Meulensteen
Floris Meulensteen
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